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International Factor
Movements and
Multinational Enterprises
Chapter 9
Copyright © 2009 South-Western, a division of Cengage Learning. All rights reserved.
Multinational Enterprises
MNE Characteristics:
o R&D in addition to manufacturing, mining,
extractions, and business service
o operations
across borders
o multinational
ownership
o high ratio of
foreign sales
to total sales
o massive size
Multinational Enterprises (cont.)
o vertical integration – parent company
establishes foreign subsidiary for production of
intermediate goods or inputs used in the
production of final goods
o horizontal integration – parent company
establishes subsidiary for production of good
identical to that produced in the host country
o conglomerate integration – parent company
established foreign subsidiary for production of
unrelated goods
o foreign direct investment – acquisition of
controlling interest in foreign company or facility
Motives for Foreign Direct Investment
o demand factors
• tap into foreign markets
• expand demand beyond domestic
• preemptive measures to prevent foreign
competition
o cost factors
• access to raw materials
• lower labor costs
• transportation costs especially when
representing high percentage of total costs
• government policies that grant tax breaks or
subsidies for establishing facilities that
generate additional domestic employment
Exporting or Foreign Direct Investment
If demand in one country is less than 300 but the
combined demand is more than 300, the firm could
benefit by producing in one location and exporting.
However, if the demand in each country is more
than 300, the firm could operate two separate
facilities without increasing costs.
Foreign Direct Investment or Licensing
o establishing a subsidiary entails additional fixed
costs
o therefore production of 400 units of fewer would
face lower costs
per unit by
licensing to a
foreign firm
o production of 400
of more units
would achieve
lower costs by
establishing a
subsidiary
Country Risk Analysis
o political risk: government stability, corruption,
domestic conflict, religious & ethnic tensions
o financial risk:
debt to GDP
ratio, loan
defaults
exchange rate
stability
o economics
risk: growth of
GDP, per
capita GDP,
inflation rate
Japanese Transplants in U.S. Auto Industry
Reasons for Japanese direct investment in U.S.:
o creates jobs and goodwill
o political insurance
o avoids potential trade barriers
o access to expanding U.S. market
o hedge against yen-dollar fluctuations
International Joint Ventures
Reasons for joint ventures:
o some costs too large for any one company
o government restrictions on foreign ownership of
local businesses
o means of avoiding protectionism against imports
Welfare Effects of Joint Ventures
Before Joint Venture
o price is $10,000 because the two firms are
competing
with each
other
o $10,000 ATC
because
firms cannot
achieve
economies of
scale
o only welfare
is CS in red
Welfare Effects of Joint Ventures (Cont.)
o with joint venture costs fall because of economies
of scale but prices rise because of monopoly
o CS decreases
o PS increases
o welfare loss
due to fewer
sales
o if area ‘d’ is
greater than
area ‘a’ total
welfare
increases
MNEs as Source of Conflict
o employment
•
•
•
•
production facilities create jobs
some cases businesses were pre-existing
foreign managers maintain executive positions
short term job loss in host country
o technology transfer
•
•
•
demonstration effect – firm shows how products
operate
competition effect – firm creates superior product
could decrease exports if donor nation loses
competitiveness
o national sovereignty
•
•
impede government attempts to redistribute income
evade taxes through pricing strategies
MNEs as Source of Conflict (cont.)
o balance of payments
•
•
•
purchase of MNE represents outflow of capital
MNE requires capital and equipment from host
return inflow of interest, dividends, fees & royalties
o taxation
•
•
foreign tax credits – U.S. tax on MNE reduced by the
amount of foreign tax by the MNE
tax deferrals – tax not paid until income is repatriated
o transfer pricing
•
•
goods sold from one division to another within MNE
choice of prices impact division of profits and taxes
in each area
Labor Mobility - Migration
o U.S. immigration - initially more Western
Europeans – recently more Mexican and Asian
o Immigration Act of 1924 – limited overall flow &
established
specific quota
from each
country based
on previous
emigration
patterns
o quota formula
modified in
1965
Effects of Migration
o
o
o
o
labor migration equalizes wages
increase in output and welfare in the U.S.
decrease in output and welfare in Mexico
net gain in world output due to higher VMP in U.S.
Immigration Issues
o decreased wages for domestic workers
assuming similar skills and productivity
o drain on government resources – however
within two generations immigrant families
assimilate making fiscal burden equal to natives
o brain drain – emigration of highly educated
limiting growth potential of developing nation
o guest workers – granted temporary work
permits only – protection against labor shortage
or surplus associated with business cycles
o illegal immigration concerns
o increased contribution to social security
Do Immigrants Hurt U.S. Workers
o short run: immigration lowered wages due to
increased supply
o long run: increased supply lead to more
investment in capital increasing demand for
labor offsetting initial impact on wages